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Note Investing Basics And FAQs

August 14, 2020

chrisseveney

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Want to get into the note investing business but don’t know the first thing about it? Chris Seveney has got your back on this as he goes back into the basics of and frequently asked questions in note investing in this episode. What are notes? What is the difference between a note and a mortgage? How to they work together? What are deeds? Everything you need to know to get started is here. Join in!

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Note Investing Basics And FAQs

We are going to roll back in time. This episode is going to be especially educational for people who are just learning what note investing is. Why? It’s because I’m going to do a thorough breakdown of the difference between a note, a mortgage deed of trust, and some of the frequently asked questions that people ask as a note investor, like, “What is mortgage note investing? Are you buying the property?” Most people, when they first hear about note investing, think that they are buying a property, which that’s the furthest from the truth. I want to do a deep dive into what it is you’re investing in. Let’s first start with the components of a real estate transaction in general. If you’ve never bought a property before or never had financed a property before, some of these terms may be new to you.

If you bought property and finance property, you’ve probably heard of these before. The first thing I want to talk about is deeds and what deed is. A deed is an instrument that gets recorded in your county’s office that transfers property between individuals. If you are buying a property from Billy Bob, Billy Bob would issue you a deed, which then is transferring his ownership interest into your name. There are several types of deeds, which I’m going to briefly talk about. People understand because it is important when you start researching note investing. Understand the different types because certain transfers have certain deeds, which could have an impact on the value of a note.

The first is a general warranty deed, which this is like the class A. This provides the highest level of protection because it includes title insurance that will warrant or convey that the guaranteeing the seller grantor of the property that there are no past issues in the history of time on that loan. For example, what could happen? I’ve had issues where a prior mortgage was recorded before the deed. It was technically invalid because the deed gets recorded before the mortgage. We need to have title insurance resolve that issue. Another issue could be somebody passed away and not all the heirs signed off on the property.

Stuff like that happens. Most of us never have seen it or experienced it because we’re just, “We’re buying a house.” Title insurance goes and does all these things, sometimes closings get delayed and you don’t know why, but sometimes it’s like, “We got to clean up the title.” When you hear the term clean up the title, it’s done by a title insurance company because there was a general warranty deed, which is the crème de la crème. That’s what you look for in note investing, is to see if it was a general warranty deed.

The next is what’s called a special warranty deed, which is the next step down. What it grants is that the person does indeed hold title to the property and that they haven’t encumbered anything against their ownership. Meaning they haven’t done anything wrong. It doesn’t mean that something could have happened before they bought it. That example where heirs passed away. Let’s say I bought a house where the heirs passed away, then I turned around and sold it to you and I provide a special warranty deed. If you want to get financing or a line of credit later and the lender went to pull a title report, that would show up and then you would have to pay probably a few thousand dollars to fix it. Some of these things can get costly.

The mortgage is the ball and chain that connects the note with the property. Share on X

In Georgia, some cleaning up titles might cost between $3,000 and $5,000. The next I’ll talk about is the lovely quitclaim deed, which doesn’t provide any types of protections. I’ve seen quitclaim deeds where people who didn’t even own the property we’re selling it to other people. Where you’ll see it used a lot is on seller financing where they’re doing like the contract for deeds and those get passed along. You’ll see it in divorce situations where a spouse will quitclaim deed it over to the other as part of a divorce if they acquired it through general warranty deed. When you see a quitclaim deed, you want to make sure you’re running a lengthy title report on that to make sure there are no issues. It doesn’t mean something’s wrong.

It just means you got to be careful in those instances. That was my spiel on deeds. People have an understanding of what the different types are. It’s something you want to have a little more education on and something that you should research early on just to get an understanding of them because I come from a real estate background and I didn’t understand them until I started doing research. You were the most when you get burned. That’s the process of selling a property and the way it gets transferred is via deed. Let’s talk about notes. Most people use the term note and mortgage interchangeably. That’s the furthest from the truth because they’re not the same.

A note is a written IOU. There’s the pecking order of I’d say documents from my understanding is an IOU, which is like, “I owe you this,” which doesn’t have any specific terms. There’s a promissory note, which includes the promise to pay, steps required to do so, and the deeds that exist. There’s a loan contract, which is a mortgage. Let’s get back to that promissory note. Some people go back to the thought, you’re not buying the property. Throughout this episode, I want everyone thinking ahead. You’re not buying the property. Let’s give an example of a note that we’ll call unsecured.

There’s different secured and unsecured. Unsecured means somebody’s borrowing money, and there’s nothing behind it. Credit card debt is unsecured. Even though you’re buying something with it, credit card companies not coming after whatever it is you bought. It could be going out to eat at a restaurant and what are they going to come to get? They can’t get food. Let’s use another example that is way out there that I like to use. Uncle Billy Bob wants to start a snowblower business in the Bahamas. Uncle Billy Bob wants $10,000 to get licensed and registrations in the Bahamas.

GDNI 114 | Note Investing Basics

Note Investing Basics: A note is not a mortgage. A note is essentially a written IOU.

 

Uncle Billy Bob doesn’t have any money. I wonder why, based on these types of businesses he runs. You, for some reason, must’ve hit your head in the morning and said, “Billy Bob I’m going to give you that $10,000 to go start your snowblower business in the Bahamas but Billy Bob, you got to pay me back in equal payments over next 36 months. Here’s a piece of paper that you’re going to sign that says, that’s the case.” Uncle Billy Bob signs it and gives it back to you. You give him $10,000. Guess what? You created a note. You’re a note investor. You give somebody $20 for lunch and they owe it to you, technically you are a note investor. Simplest terms, a note is giving somebody money on a piece of paper to give it back to you.

Let’s go through what’s included in the note. One of the things I want to mention is a lot of people wonder notes and stuff like that. We’re talking single-family owner-occupied. We’re jumping into note investing and you are owner-occupied, typically has on their website. It’s SingleFamily.FannieMae.com/legal-documents for every state that Fannie Mae approves. You got a note and mortgages there too. If you’re creating a note for somebody, here’s where you could get the documents. A note is not recorded with the County. The deed and the mortgage, which transfers property. What is in the note? It talks about the property address. It talks about the hours promised to pay. How much is the principal? How much are they borrowing? What’s the interest rate? How often? How many months our loan charges handled, late charges? That’s the crux of it. It’s three pages. It’s not notarized, interestingly enough, it’s signed. The note is a three-page document that says, “I’m borrowing $50,000 and 9% over 36 months, and here’s how it works.”

That is your note and that’s an example of note. It’s secured investments, lending some large amounts of money. You want to reduce your risk, don’t you? The way to reduce your risk is to collateralize the asset. What I mean by that is if you looked at in the picture, close your eyes in a horizontal line, you’ve got the house on the far right and a note on the left. They’re not attached in any way. Let’s take a mortgage also deed of trust depending on what state you’re. Split that in the middle and have it attached ball and chain on both ends. A mortgage is a ball and the chain connects the note with the house. How does it do that?

The mortgage is the loan contract that I talked about. The contract that says, “You borrow money. This is how you’re going to pay and when. If you don’t, then I have the right to go seek, protecting my asset, and taking that property back.” A mortgage is a lengthy document. It’s sixteen pages and got riders in it. Some people you’ll see adjustable-rate riders and condominium riders. The sixteen-page document gets recorded in the County. The way it gets recorded is the deed always gets recorded before the mortgage. Why? Record a mortgage before the deed.

You’re recording a document that says, “You owe me money on a property that technically you don’t own until that other documents recorded.” They recorded out of order, and that creates havoc. Your title company or whoever, what they’ll do is a record them together. They attach the deed mortgage behind it and they get recorded together. That person bought the property. Here’s the mortgage behind it that says, “I’m in the first position on this lien.” That’s why you don’t wait to record your mortgage because the person next day could go borrow $10,000 from somebody, slap it on before you. In most states, it’s first come first serve.

In note investing, you’re not buying the property; you’re buying the loan. Share on X

That is the note. We talked about the mortgage. Let’s talk about note investing and the difference. What I’ve been talking about is originating notes. You lend somebody money for something. In note investing, you’re buying notes that have already been created. When I said from the beginning, you’re not buying the property. I went and lend Billy Bob $50,000 to buy his house. Billy Bob’s been paying me and he’s been performing, but I need cash for my kid’s college. I can turn around and sell that note to another investor. That investor then is buying a note that’s already originated, but again, they’re just buying the loan. The loan is getting transferred. Instead of Billy Bob paying me, he’s now going to be paying you.

You’re not buying the property. All you’re doing is buying somebody’s loan. That’s the crux where people get caught up. He’s buying the loan or the rights to the payments that Billy Bob was giving to me. Now, they’re just going to go to you. Let’s talk about that process and how that works. When the note gets transferred, they can stamp the back of the original note and say, “Pay to the order of you,” whoever’s buying it. Most instances, what they’ll do is they’ll issue what’s called in allonge. Allonge is the assignment transferring the note from me to you. That’s great that you have the note that is still to be paid to you, but you still want it securitized.

You also need transfer to that mortgage and that’s where you see the assignment of mortgage. For anyone that’s ever financed a property, you’ll say, “My loan has been sold.” That happens. Wells Fargo or banks merge, it gets sold and they say, “Now send your payments to this person.” That’s what is happening here. You had that allonge. Now, you need to securitize it, but then they give you an assignment. The assignment is transferring the mortgage, that loan contract into your name. That you want to make sure gets recorded. The allonge, a note which doesn’t get recorded in the County. The assignment gets recorded. That way it’s in public records to know who the lender is on that property. Why is that important? For many reasons, especially when you get into nonperforming and other reasons.

You have an escrow payment. You pay a mortgage and you pay extra money every month. Some people want to pay the escrow to themselves. What they’ll do is they’ll not pay the servicer you have, they’ll pay it out of their pocket. That’s not getting paid or there was a sewer bill that wasn’t getting paid. They will notify the lender to say, “This is a lien against the property and it could cause a foreclosure that supersedes your note.” You want to make sure you’re on the title. Here’s an example. I had a loan that took my company I use four months to record my assignment. During that time, I bought the loan in those four months, I had somebody buy the property. It was vacant and we’re going to get a secured. The city came in and knocked the house down. Thankfully it was a note that paid a few thousand dollars for it.

It wasn’t a $50,000 note or I’d be crying. What happened was they notified the prior lender who threw in trash saying, “I’m not the lender on this anymore.” Instead of forwarding it over to me. I notified everyone, “This is getting demolished unless you do A, B, and C.” This was a vacant property. The borrowers had gotten divorced. They split up. Because it wasn’t recorded, the County notified who they thought the lender was but wasn’t. That’s why it’s extremely important to make sure you get all your documents in order and recorded. That touches upon the major topics that I want to talk about. It’s simple when you look at things and put them in buckets, from the perspective of, “No, non-recordable instruments. It’s a note and allonge.” When I do another topic on due diligence, it’s going to be important that you think in this matter. What you’re going to do is when you look in that bucket, you’re going to take the allonges and put them in order from company A to company B, company B to company C.

GDNI 114 | Note Investing Basics

Note Investing Basics: In note investing, you’re buying notes that have already been created.

 

On the other side, near the bucket, you got the assignments. The recorded instruments. It’s going to go from company A to company B. You want to make sure the assignments and allonges all match and that’s part of due diligence, which is going to be a whole another topic. I want to break down what is note investing because I started from the beginning, you’re not buying the property. You are just lending money or owning the loan that someone else lent money on that they are paying you. That’s why you hear a lot of times in note investing, not dealing with termites, toilets, or tenants. If the toilet breaks or toilet floods, you’re not getting that phone call. Why? Do you own a house? Do you have a mortgage on your house? If your toilet floods, you call your lender, you call the bank and say, “Is the toilet flooded?” No.

Do you call your lender and say, “I have termites?” No. When your roof leaks, you call the lender and say, “The roof leaks.” When’s the last time you called your lender? It’s only if payment got screwed up, they said you didn’t pay. You did. That’s what’s great about performing loans. There is a lot more work involved than non-nonperforming loans. When people tell you it’s passive, that’s a bunch of crocks. On performing loans, think about yourself as if you have a mortgage. How often do you hear from your lender? I never hear from my lender because I pay them every month.

That’s ACH goes out and guess what? They get the money. That’s where you’ll sometimes hear to mailbox money as well because there’s not much interaction. It can be passive. I want to thank you all for joining us. There’s a couple of things that you can get a hold of me, Chris@7EInvestments.com. Go to my website, 7EInvestments.com. Join us on Facebook, the Notes and Bolts from The Good Deeds Note Investing Podcast Facebook group. You can get a ton of great content on there. I find that there’s a lot of people asking questions or post a lot of stuff on there. Many other things I’ll mention besides reading this. I am going to go back to start doing the live shows.

I’m going to make an announcement coming up that I’m going back to doing what we used to call Open Mic Nights. I’m going to change them around a little bit, shift a little bit on them. Make them a little earlier for those on the East Coast. Also, I’m going to have specific topics that I think people are going to appreciate and like and that perspective. If you enjoyed the show, I appreciate it. You could leave me a review on iTunes, Stitcher, Google Play, or any of the other platforms. I want to thank you for reading this episode. As always, as a note investor, especially in times like this where we’re dealing COVID, go out and do some good deeds.

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